Many baby boomers who contemplated easing into retirement may now find themselves in far more precarious financial straits in the wake of a collapse in the value of homes that, for a sizable number of boomers, were their primary nest egg.
A new study by the Washington, D.C.-based Center for Economic and Policy Research (CEPR), attempts to quantify how much of boomers' wealth has been severely eroded by the double whammy of plunging house prices and stock values, potentially leaving them little to retire on other than Social Security and other government-funded benefits. The study's findings raise questions about the wisdom of fiscal policies attempting to reduce those benefits, and challenges notions about homeownership being the most effective way to accumulate wealth, given the propensity of housing bubbles.
The study, coauthored by CEPR's economists David Rosnick and Dean Baker, is based on data from the Federal Reserve's 2004 Survey of Consumer Finance, and builds upon a similar study the Center did in June 2008. Its latest study examines the relative wealth of 45 to 54 year olds and 55 to 64 year olds, dividing each group into wealth quintiles.
The Center revises its projections based on three scenarios that assume the S&P/Case-Shiller Home Price Index either won't decline from November 2008 levels, will fall another 5 percent, and will fall another 15 percent. The study assumes zero savings by either age group between 2004 and 2009, a safe bet given that the actual savings rate in this decade so far has been less than 1 percent.
CEPR explains that it is revisiting its own study so soon because economic conditions have gotten worse than it had expected. Indeed, yesterday, Standard & Poor's released its latest Index of existing home prices in 20 U.S. cities for December 2008, which was down 18.5 percent from the same month a year ago, the fastest drop on record.
"The collapse of the housing bubble, which led to the current recession, has already destroyed almost $6 trillion in housing wealth for homeowners," says Baker.
The median wealth of 55 to 64 year olds in 2004 was $315,400. CEPR projects that this wealth will fall to $168,800 in 2009, or to $143,200 in the worst-case scenario. The average wealth drop would be 29% to $708,000. Even at the top wealth quintile, the average falloff is projected to be 25% from $3.8 million.
The 45 to 54 year old group is generally less affluent to begin with, so the hit it has taken from the downturn in the housing market is starker. The study projects the median wealth of this group will erode by 41% to $101,800 in 2009. In the worst-case scenario, the decline would be more than 45%. This group's average wealth will decline 36% to $408,500, with the losses in scenarios two and three notably larger. For example, in the second scenario, median net wealth in 2009 is $94,200 (a drop of 45 percent) and the average net wealth is $387,900 (a drop of 39 percent).
This age group's median equity in real estate was $83,600 in 2004, but that's fallen drastically since. For instance, in the first scenario, median real estate equity in 2009 is projected to be $27,100—a drop of 68%—while in the third, median equity is projected to be only $6,600, or a loss of 92%. The projected decline for 55 to 64 year olds from their 2004 equity median of $142,000 will range from 47% to 63% in 2009.
The wealth of baby boomers could be further compromised when they are trying to sell their houses. The CEPR study states that only 2.6% of 45 to 54 year olds had less than 6% equity in their primary residences, meaning they'd have to bring cash to a closing when selling their homes in 2004. This year, however, 17% to 28% of each wealth quintile (depending on which they fall into) would need to bring cash to close a resale in 2009. Even households at the top of the wealth ladder won't be immune: In 2004, no households in the top quintile of the survey had less than 6% equity in their primary residences. By 2009, between 10% and 20% of the most affluent households in this age group would need to bring cash to a closing.
Obviously, an owner's wealth exposure magnifies if his or her house is worth less than the mortgage. The study projects that between 23% and 38% of homeowners in this age group with negative equity would need to bring cash to close a resale in 2009, versus only 3% in 2004.
Anywhere from 11% to 18% of the 55 to 64 cohort would need to bring cash to a resale closing in 2009, compared to only 1.1% in 2004. And for owners in this age group with negative equity in their houses, 14% to 23% will need to bring cash, compared to only 1.4% five years ago.
The authors of the study conclude that, because of the housing bubble, millions of American families opted not to save during what is considered to be their peak saving years. "Even families in the fourth quintile are only projected to have $215,800 in wealth in 2009 in this scenario. In short, as a result of the collapse of the housing bubble, the vast majority of baby boomers will be approaching retirement with little wealth outside of Social Security."
The authors insist that the government needs to do more than simply let bubbles run their course, which is what they assert the Federal Reserve did during the last housing bubble. They also state that it "should apparent from these projections" that proposals calling for reducing Social Security and Medicare "are unrealistic given the financial situation of those near retirement."
The study's findings, say its authors, "should make clear" that owning a house isn't always the surest path to building wealth. And who is to blame for the mess homeowners find themselves in? Owners, in part. But the authors point accusatory fingers at "the economists and policy professionals who designed policies that pushed homeownership."
John Caulfield is senior editor at BUILDER magazine.
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